International lending of last resort and moral hazard:A model of IMF’s catalytic finance

This paper analyzes the trade-off between official liquidity provision and debtor moral hazard ininternational financial crises. In the model, crises are caused by the interaction of bad fundamentals,self-fulfilling runs and policies by three classes of optimizing agents: international investors, the localgovernment and an international official lender. Limited contingent liquidity support helps toprevent liquidity runs by raising the number of investors willing to lend to the country for any givenfundamentals, i.e., it can have catalytic effects. The influence of the official lender is increasing in thesize of its interventions and the precision of its information. Unlike the conventional view stressingdebtor moral hazard, our model identifies circumstances in which official lending actually strengthensa government’s incentive to implement desirable but costly policies.[...]